Five economic charts

One of the nice things about regular exercise is that it tends to free up the subconscious to wander where it will as one labors through strenuous physical exertion.  This is particularly true of Macro Man's sport of choice, road cycling, which is synonymous with suffering (OK, and performance-enhancing drugs as well, both those just mean that the guys who take them can suffer for longer.)

Of course, one of the downsides of allowing your subconscious to wander on its own is that there's no guarantee where it will end up.  Macro Man is conscious that he's spent a lot of time on the US recently, while there are other issues- Canadian elections, the forthcoming Chinese Plenum, this week's ECB meeting, to name a few- that merit comment in their own right.

Yet as he finished climbing a hill in the cold wind yesterday, Macro Man found his mind returning to the US and a few issues relating to some of last week's posts.  Probably the best way to express these thoughts is through a few charts:

*  There has been a lot of discussion about economic models and policy rules, unemployment, underemployment, labor slack, etc.  What's indisputable is that the Fed has consistently over-estimated the unemployment rate.   The chart below calculates a rolling 12-month forward unemployment rate forecast from the SEP projections and compares it with the actual unemployment rate 12 months after the forecast.  Readers will be unsurprised to see the consistent miss:


*  Of course, this misses the whole issue with the participation rate.   Macro Man's insight while riding yesterday is that we could turn these forecasts on their head, rendering them as employment rate forecasts.  This in turn allows us to plug in a number of participation rate assumptions to render a spectrum of forecasts to compare with the actual employment level out-turn.   The chart below shows the actual level of employment 12 months after the forecast date in dark blue, and three different forecasts based on different participation rate assumptions. 

The light blue line uses the actual participation rate at the time of the relevant employment release (i.e., 12 months after the forecast.)   Unsurprisingly, this is essentially the same relationship to the actual employment level as the unemployment rate forecasts in the chart above.   The red line assumes that the participation rate stays static for 12 months from the time of each forecast period (rather then declining, which has been the trend.)  As you can see, actual employment mostly undershot the implicit Fed forecast in 2011-12 before generally out-performing since early 2013.   Perhaps uncoincidentally, the Fed first mooted the taper soon after.  Finally, the purple line assumes that the participation rate will converge on 65% over a three year horizon; in other words, this forecast projects that the participation rate will move 1/3 of the way from its prevailing level at the time of the forecast to 65% when the actual employment observation is taken a year later.  Unsurprisingly, given the steady decline in the participation rate, employment has undershot this forecast in every observation in the sample period.   Call this one the "Kocherlakota model", if you will.



*   There was an interesting debate in the comments section of Friday's post about whether the benefits of increasing (generally older) savers' returns outweighed the (possibly ineffective) efforts to try to increase youth employment.  Further to this, one interesting dynamic that has emerged over the last decade or so is a sharp increase in the labor force participation rate amongst over-65's...which has occurred at the same time as a decline in the participation rate amongst the age 25-34 cohort.   Although it is possible that each of these trends is voluntary, it seems rather unlikely.   Sure, Warren Buffet is having a ball and works because he wants to, but it seems dubious that retirement-age Wal-Mart greeters get quite as much out of their "careers."  It's hard to say for certain that the older cohort is "hogging the jobs" that would normally go to the younger crowd, but it does seem likely that the dearth of fixed income returns on offer has exacerbated the issue.



*  Macro Man has talked a lot about "spare capacity" but can never recall sharing one of his favorite charts before.  The trend in US industrial capacity growth rose at a very steady trend between 1967 and 1994 before exploding at the same time as the Internet and telecoms investment bubbles of the late 1990's.   Capacity has remained above the prior underlying trend ever since, which is one reason why utilization rates have trended lower, even during economic peaks.


*  Obviously, more spare capacity means less inflation pressure (and less wage growth!)  The chart below compares the level of capacity relative to the 1967-94 trend with inflation in the durable goods PCE deflator.  As you can see, the relationship looks to be quite good.   Now envisage, if you will, what the last two charts must look like on a global basis,  what the implications are for inflation, and what central banks can (or, more to the point, cannot) do about it.

Now let's see where Macro Man's bike (and mind) take him today....
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Kavitha Ks
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October 20, 2015 at 7:48 AM × This comment has been removed by a blog administrator.
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Anonymous
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October 20, 2015 at 8:18 AM ×

Great post MM, I get the same kick looking at the bottom of a swimming pool, amazing how the mind wanders....

Overcapacity is everywhere, individuals have learnt how to maximise there personal potential (not necessarily economic) and companies have learnt how to paint the tape so to speak with buy backs, debt based funding of dividends, tax havens etc etc.....

Maybe just maybe we are actually at peak debt. perhaps there is no more marginal gain from more debt... the developed world doesn't need debt it needs either more demand or less capacity.... looks like high end property is finally rolling over globally ...



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abee crombie
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October 20, 2015 at 11:05 AM ×

How is capacity utilization even calculated ? If I recall there is a lot of emphasis on utilities.

I AM very weary of implied numbers like that and productivity. I can be more productive in my life but use the proceeds for free time, or knowledge yet it never enters GDP and thus looks like the overall figures are low. Surely this is party of the productivity paradox currently.

What is the capacity utilization of your car? Or an empty 2nd home ? Now with uber / car sharing and airbnb those might be more utilized.

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Anonymous
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October 20, 2015 at 12:29 PM ×

Uber and other 'innovates' are basically just a race to the bottom not unlike Poundland etc. I suspect all this started with China/Asian expansion. Over the years I've noted the qualitative aspects of transactions have gradually shuffled down the pecking order just has quantitative one's have risen to the fore. None of this has anything to do with productivity. It all just assumes that there's more 'value' to be derived from economic transactions if you don't over-consider quality.

I weighed in last week on the issue of Fixed income and demographics vis a vis the distributed benefits of monetary policy. My take ,talking my book has an older person, is this.
Society rolled up certain expectations over 1980-2000 about growth and income in retirement. Timings everything (even random) and some won in getting out the exit door ,but a lot lost when thse expectations hit the wall at the millennium and the losing now older age groups have been trying to play catch up ever since. Policy has been trying to kick the can on that , but it's benefits etc don't actually get distributed equally so we see what you have found. That is, the 'losers' has a group are staying in the labour market longer and given the overcapacity issue this displaces younger groups from shuffling up the normal employment ladder. Given the older groups needs for fixed income being heavier than the younger groups then when policy takes a stranglehold all that happens is the older age groups either swell has more people lose their fixed income revenue or those same people reduce consumption. Sometimes both. I'm making what I think is the obvious point that low rate policy may actually be deflationary when the offset of how benefits are distributed is fully quantified. The natural assumption for many (inc The Bean counter) is that low rates somehow must be a positive for economic growth and therefore employment. Trouble is no one's ever really had to look at the effect of this policy when the demographics are increasingly trending to where they are today.
Now I don't have access to the kind of data that might actually tell me if my thinking is right on this ,but actually I think it's about somebody with access to the data started thinking about it rather than assuming we know how this model works.

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Anonymous
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October 20, 2015 at 12:33 PM ×

"takes a stranglehold all that happens is the older age groups either swell " . That's not explained very well. I was saying low rate policy increases the numbers who need to stay in the labour market longer than they otherwise would.

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Bruce in Tennessee
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October 20, 2015 at 1:48 PM ×

In those same musings from Anon, it would be interesting to see what the savings rate differential is between age groups for the last 7 years...if there is considerably more savings %'tage wise from the older age groups, (as the continued working %'tage has increased), then you'd probably say low interest rate policies have deadened the older groups' input into the economy...

...from what I read US citizens as a whole are saving more now..

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Anonymous
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October 20, 2015 at 1:51 PM ×

Fed policy in a nutshell:
- Save banks by inflating housing prices
- Price out the middle class
- Don't count it as inflation
- Declare victory

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abee crombie
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October 20, 2015 at 2:14 PM ×

Re Anon 12:29, a hear your on the increase in Poundland (Dollar Stores) but I also see a big increase in 'brands', heck who today doesnt pay up for an iPhone vs Huwai? or other brand names (clothes, cars etc). Brands convey status, reputation etc, and either you decide to go for value (Poundland) or payup. Those companies caught in the middle dont do well.

Some articles on why demography points towards higher inflation
http://www.voxeu.org/article/demography-and-economics-look-past-past
http://shiftingwealth.blogspot.com/2015_09_01_archive.html
https://blogs.cfainstitute.org/insideinvesting/2013/11/18/a-non-monetary-explanation-for-inflation/

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Anonymous
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October 20, 2015 at 4:03 PM ×

"It's hard to say for certain that the older cohort is "hogging the jobs" that would normally go to the younger crowd, but it does seem likely that the dearth of fixed income returns on offer has exacerbated the issue."

OK - I'll go out on a limb and say it is certain. All one needs to do is talk with average older Americans (60+), which I do. 2 stock market meltdowns, 1 housing bubble pop, several trade treaties that export well-paying jobs, increased automation, ZIRP and QE/Twist. All in the past 20 years. A lot folks won't be retiring, even if the Fed decides to quit confiscating their savings. Damn shame.

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Anonymous
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October 20, 2015 at 4:35 PM ×

WATCH German bunds NOW. It's about to happen here. Yield are about to rip up 70-90% from here

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Anonymous
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October 20, 2015 at 4:36 PM ×

All of European bond yields in the 10 year could double in a few weeks. Euro will rally huge on higher yields.

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washedup
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October 20, 2015 at 5:44 PM ×

Wow thanks Anon - appreciate the heads up.
MM/Left/Pol/Abee u heard that? cancel all your appointments and close all other screens - lets WATCH German bunds NOW.

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Anonymous
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October 20, 2015 at 5:53 PM ×

Abie 2.14
You didn't really get my point because it was poorly laid out in haste. The point being where groups have been losing the income race then a change in consumption behaviour has probably led to a broader appeal of price over quality. I think the roots of this lay in China and the rise of the 'disposable' product tracing on today to the rise of Uber et al. In your example the 'Apple' buyer has not lost the race (yet). Many have and they are to be found working longer amongst other things.

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DownWithTheBeanCounters
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October 20, 2015 at 6:47 PM ×

This board is pretty cranky, but I'm probably still on it's greyer side. I'm not anti-olds. I agree that giving folks living on a fixed income more money will increase demand. If you give anyone more money you will increase demand. By all means argue for an increase in social security benefits (if the COLA had been positive this year that would have happened- curse you deflation!), but the best way to increase demand is not to line the pockets of those living on passive income by raising the short term rates to an economically unsupported level.

Is it true that the price of your basket of goods falling by 50bps is equivalent to the rate on your savings being raised by x%?

Trying to help savers by holding short terms rates above supported levels is self defeating. You will be forced to reverse course and cut rates even further to repair the damage done by the unsupported hike- witness Yurp, Sweden and Israel.

Japan has had very low interest rates for a very long time. Has anyone seen a good argument made for them raising rates to get out of their deflationary trap? I have seen good arguments blaming tepid initial BOJ policy on perpetuating the problem.

MM makes a strong point with regards to capacity and wages. As mentioned earlier, I've been around. My current shop manages to do much more than my first shop with 10% of the work force. The 10% still in a seat are paid much better, but not well enough to make up for the missing 90%. This effect is beyond the feds ability to counter.

I'm happy that we are at the point where we are debating the timing and path of a rate normalization cycle. It means that monetary policy works. It's not perfect, but it works. The US has done much better than the economies helmed by more hawkish Central Banks. The robustness of the US economy and the effectiveness of Fed policy have brought us to or very close to recovery.

My position is that there is no hurry. Prudent risk management argues for caution. The well documented excess capacity lessens the threat of a serious burst of inflation and, with the exception of stuff that only very rich people buy, there seem to be no serious imbalances.

0 is a strange number, but it's just a number.


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abee crombie
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October 20, 2015 at 7:02 PM ×

For those inquiring minds..
Table of Cap U and to see individual components


The individual capacity indexes for a year are derived from (1) preliminary, implied end-of-year indexes of capacity obtained by dividing a production index for an industry by a corresponding utilization rate obtained from a survey and (2) additional measures that, for most industries, are economic determinants of an industry's annual capacity growth. The capacity indexes, like the IP indexes, are expressed as percentages of production in 2007. Once the preliminary, implied capacity indexes are calculated, they are related to the additional measures in a regression model. The final capacity indexes for a year are derived from the fitted values of these regressions. The preliminary, implied capacity indexes thus give the general level and trend of annual changes from one year to the next. For most manufacturing industries, estimates of industry capital input and a variable related to the average age of the industry's capital stock are used as the additional measures.[1] For mining, utilities, and selected manufacturing industries, measures of physical capacity are available and are used to determine the final capacity indexes.[2]

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wcw
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October 20, 2015 at 7:08 PM ×

Mostly agreed, except:
> there seem to be no serious imbalances

To pick just one out of a hat:
https://research.stlouisfed.org/fred2/graph/?g=2cbO

From the '60s to early '00s, we invested 4.5% GDP in housing, give or take. Then for five years, we invested almost 6%, resulting in total overhang around 6% of GDP. Since then, residential has been 3%, covering those 6% and undershooting another 5%.

Undershooting normal residential investment by almost as much as the housing bubble overshot seems like a spot of an imbalance, maybe.

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DownWithTheBeanCounters
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October 20, 2015 at 7:15 PM ×

Bless you WCW. Residential investment has been an economic drag. I meant imbalances that would argue for tighter monetary policy. Raising rates is not going to improve residential investment.

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Anonymous
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October 20, 2015 at 8:42 PM ×

German 10 year +10.80

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Anonymous
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October 20, 2015 at 8:52 PM ×

"The well documented excess capacity lessens the threat of a serious burst of inflation and, with the exception of stuff that only very rich people buy, there seem to be no serious imbalances."

https://research.stlouisfed.org/fred2/graph/?g=2cgM
https://research.stlouisfed.org/fred2/graph/?g=2cgP
https://research.stlouisfed.org/fred2/graph/?g=2cgQ
https://research.stlouisfed.org/fred2/graph/?g=2cgS
https://research.stlouisfed.org/fred2/graph/?g=2cgZ

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DownWithTheBeanCounters
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October 20, 2015 at 9:21 PM ×

US stocks aren't cheap. Without a pick-up in growth and demand US equity investor are in for some subpar returns, but investors generally are in for some subpar returns. The 10yr could go to 1%, but then what?

I was asking a bond bull about the 30yrs prospects. Great buy I was told. Relative value is tremendous and you are being paid 3% to own a put.






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Anonymous
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October 20, 2015 at 10:11 PM ×

DownWithTheBeanCounters said..."with the exception of stuff that only very rich people buy, there seem to be no serious imbalances."
By this stuff I assume you mean:
- Property
- Healthcare
- Essential goods (such as food and utility services)
- Equities (for long term investments)

Anyone with any common sense can see that there is a bubble in most major asset classes - except you. Words fail me...

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Polemic
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October 20, 2015 at 10:11 PM ×

Lots to take in. MM that was another great post, well done.
First simple observation form chart 1 is that if Fed had rebranded the 1yr forecast as 6mth they would have been pretty much bang on.

The excess capacity everywhere is a coming problem but ones man's excess capacity is another man's saving. Excess capacity could of course just reflect lack of demand and that may actually be because people aren't making what people want. Which leads to the china thought quoted somewhere above (CBA to scroll and find it) where we've just got enough crap. And that fits in to the observation that folks are willing to pay up for Apple. Part of it is status, undoubtably undoubtably undoubtably. But that status is not just about price. Though Tracey Emin may get paid millions to produce a pile of junk, most status objects do have a smidgeon of functional or aesthetic betterness about them. Agreed, not the bazillion dollars worth that a louise Veeeeeeton handbag pretends it has over a 5p carrier bag, but a little at least. And that's why I actually switched to Apple from PC's despite my protestations that they were overpriced designer twaddle. The point is they work and the seem to work forever unlike a PC which grinds to a halt. There were only so many hours of being 'PC dad' to the family's network each evening before I bought them all Macs and haven't heard a squeak out of them since,

And that's the problem with the rest of the crap in the shops. Chasing margin as retailers do in the UK has meant that the stuff we can buy has got crapper and crapper. Plastic instead of metal on equipment that you want to last and a general tendency of everything in the major stores to be just crap. I am hoping that there will be a demand led backlash where quality is demanded again and you can buy a toaster that toasts, a shed that doesn't arrive as matchsticks for self assembly or a washing machine that isn't made of tin foil and a scalextric motor. I am confident it will happen as it has occurred in the US beer market, where once all you could buy was complete and utter piss water, the massive uprising of micro-breweries and their success has led to big breweries actually thinking about adding some hops to their water.

Which leads me on to the other great problem we have. The belief that equalising society means that everyone has to have shite because that's all the poor can afford. Instead of getting rid of quality, get rid of rubbish and let that excess capacity take the strain. ban 2nd class train travel not 1st class. Instead of building affordable home shoeboxes that will be tomorrows slums, build big 4 bed houses with gardens. Build enough and the prices will collapse and they will be affordable. Let them eat cake, but make sure we are making enough of it.

It's time to upgrade the world. We have the capacity to do it.

Oh and as for the Nostradamus of the Bund world anon above. God knows where that came from. Much as I am one the world's biggest anti -ve rates men out there, can we have some reasoning please?

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Anonymous
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October 20, 2015 at 10:12 PM ×

"I was asking a bond bull about the 30yrs prospects. Great buy I was told. Relative value is tremendous and you are being paid 3% to own a put."

Brilliant - its worked for 30 years and even high school students are taught about the negative correlation between the two, so what could possibly go wrong.
One day people will walk in to a bond selloff with equities falling in tandem - will make past corrections look like a picnic.

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Anonymous
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October 21, 2015 at 12:35 AM ×

http://www.telegraph.co.uk/finance/newsbysector/industry/11944254/Steel-crisis-strikes-to-heart-of-UK-manufacturing.html

The exporting of excess capacity because in a communist system the central rulers wont turn off excess capacity, will eventually rejected by the west through tariffs..... China has the most to lose if Globalisation reverses a touch.

As for rebalancing the Chinese economy, how much Netflix / Coffee / Movies / etc etc do people need as a % of spend.

Is it any wonder why better off Chinese have been getting money out of china for the past few years, its a massive ponsi based of debt, worse then the developed world as there is no clear well established law on who has security over what.



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Leftback
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October 21, 2015 at 4:27 AM ×

Thou Shalt Not Punt During the Height of Earnings Season.
Nor Shall Ye Play Five Minute Macro.

Chilleth, Ye Macro Horde, and Counteth Thy Performance.
Verily, Thy Risk/Return Ratio Shalt Return.

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Celeriac1972
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October 21, 2015 at 9:04 AM ×

For this reason you must not grudge the labour which the proper performance of this process demands, seeing that it includes punting, spoofing, algos and all the other processes enumerated by the ancient alchemists. All these you may safely dismiss from your mind, as they can cause you nothing but trouble, loss, and waste of time. My purpose in writing this faithful admonition is to caution you again and again to beware of those pitfalls with which the contemptuous obscurity of the Ancients has so plentifully beset the path of the ingenuous enquirer. I also desired to suggest to you the true path, and the one true method and have throughout endeavoured to express myself in a style as free from allegorical obscurity as possible. I have recalled you from your wanderings in the pathless wilderness, and put you in the right way. Now you must beseech Almighty God to give you the real philosophical temper, and to open your eyes to the facts of nature. Thus alone you will be able to reach the coveted goal.

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